Tag Archives: how to deduct home office expenses on income taxes

Home Office Tax Deduction Requirements

Home Office

If you use part of your home for business, the IRS will generally allow you to deduct certain expenses come tax time. The home office deduction is available for homeowners AND renters, and applies to all types of homes.   In order to take the deduction, there are two basic requirements that you must satisfy:

Regular and Exclusive Use
You must “regularly” use part of your home “exclusively” for conducting business.  For example, if you use an extra room to run your business, you can take a home office deduction for that extra room.  The exclusive portion of the equation usually means that you can’t use that room for other things.  Meaning, if the room is your den and you also use it for entertainment or other social activities, then the deduction will not be allowed.  Also, if the room or space isn’t used on a regular basis (i.e. you only have business meetings in that room once a quarter), the deduction will also not be allowed.

Principal Place of Your Business
In addition to the above, you must show that you use your home as your principal place of business. If you conduct business at a location outside of your home, but also use your home substantially and regularly to conduct business, you may qualify for a home office deduction. For example, if you have in-person meetings with patients, clients, or customers in your home, even though you also carry on business at another location, you can deduct your expenses for the part of your home used exclusively and regularly for business. You can deduct expenses for a separate free-standing structure, such as a studio, garage, or barn, if you use it exclusively and regularly for your business.

How to claim the deduction
Generally, deductions for a home office are based on the percentage of your home devoted to business use.   Thus, if you use whole or part of a room for conducting your business, you will generally need to figure out the percentage of your home devoted to your business activities.  However, note that there are TWO methods for you to determine the deduction:

Simplified Method
For taxable years that started on or after, January 1, 2013 (filed beginning in 2014), taxpayers have the option of using the simple method per IRS Revenue Procedure 2013-13.  The standard method (discussed next) has some calculation, allocation, and substantiation requirements that some consider complex and burdensome for small business owners. The simplified option can significantly reduce the recordkeeping burden by allowing a qualified taxpayer to multiply a prescribed rate by the allowable square footage of the office.   In most cases, the deduction is calculated by multiplying $5, the prescribed rate, by the area of your home used for a qualified business use. However, note that the area you use to figure your deduction is limited to 300 square feet.  So if your office is larger than this number, you may want to take the time to use the next method.

Regular Method
Taxpayers who use the regular method (required for tax years 2012 and prior), must determine the actual expenses associated with their home office.  These expenses may include mortgage interest, insurance, utilities, repairs, and depreciation.  Once the amount spent on each category is determined, one must then allocate them between the space used in connection with their business and the rest of the dwelling.  To do this, one will use IRS Form 8829.

Where to deduct
Where you take the deduction on your tax return depends on how you conduct your business:

  1. If you are self-employed: report the entire deduction on line 30 of Schedule C (Form 1040). Whether you need to complete and attach Form 8829 to your return depends on which method you used above to perform your calculation.
  2. If you are an employee: you must itemize deductions on Schedule A (Form 1040) to claim the deduction, generally on line 21 (unreimbursed employee business expenses).
  3. If you are a member of a partnership, multimemeber LLC or S-Corp: take a look at this post for more information on how to claim the deduction.

To learn more about the following, we suggest that you take a look at IRS Publication 587:

  • Types of expenses you can deduct.
  • How to figure the deduction (including depreciation of your home).
  • Special rules for daycare providers.
  • Tax implications of selling a home that was used partly for business.
  • Records you should keep

S-Corp Home Office Deduction

Taking the home office deduction is fairly simple when you’re a self-employed individual and file Schedule C.  In those instances, you simply indicate on Form 8829 the percentage of your home that is used for work, the costs to maintain your space, and that amount will go on your Schedule C as a deduction.

If you are a member of a partnership or multimemeber LLC, then you use a similar calculation to the one listed above (see the worksheet on page 27).  However, you deduct the expenses as unreimbursed partnership expenses on Schedule E.

But what if you’re a member of a S-Corp?  Well, if you still want that home office deduction, just be prepared to do a few workarounds to get it.

25 years ago Congress enacted a law prohibiting the deduction of expenses related to the rental of a portion of one’s home to their employer.  The law was enacted in response to a Supreme Court decision [Feldman v. Commissioner].  The rental arrangement involved was viewed as an attempt to circumvent the purpose of Internal Revenue Code Section 280A, which limits deduction of expenses allocable to the business use of one’s home.

Given that office-in-the-home expenses are not allowable if the office is rented to one’s employer, an S Corporation shareholder-employee “could” deduct office-in-the-home expenses as miscellaneous itemized deductions.  But these deductions are of little or no value because of the 2% income floor imposed on Schedule A, and the add back of such deductions in computing alternative minimum taxable income.

Based on the above, the old workaround that was often used was:

  • create a rental property on Schedule E of the individuals return, and include a portion of all expenses (rent, mortgage interest, property tax, insurance, utilities, etc). You would then report an amount of income that’s equal to;
  • rent expense that you report on your S-Corp tax return. Those two amounts will offset (the rent deduction on your S-corp return and the rent income on your individual return); and you will be left with the home office deduction.

Well,  the IRS got tired of sifting through fake rental properties and instead recommends that the employee submit an expense report as part of what’s called an “accountable plan.”

So based on this guidance, here is the new way of deducting home office expenses if you are a member of a S-Corp:

  • Draft an accountable plan agreement for your company.  It will outline what expenses are eligible for reimbursement, how they will be paid, etc.  A sample plan can be found here, or you can create your own.
  • Calculate the percentage of your home that is used exclusively for business purposes.  Divide the square footage used for business by the total square footage of the home and multiply by 100.
  • Calculate the total amount of eligible reimbursable expenses (see Form 8829 above).  Multiply each amount by the percentage of business use calculated in the step above and enter the results on the expense form that you use for your accountable plan.
  • Prepare expense reports as the employee and turn them in to your company on a regular basis.  Attach receipts or other documentation to the form to substantiate them.
  • Cut the check from the business account and deposit it into your personal account. Attach a copy of the check to the form as documentation that these were paid.
  • Enter the amount of the payment into your S corporation’s records as a reimbursement for employee expenses. Post each expense claimed to the appropriate expense account so that these expenses may be deducted from the corporation’s income on its tax return.

And there you have it.  You have now created a tax-deductible business expense for the S-corp, and you don’t have to report the reimbursement as income.